As more developing countries tap international financial markets and more countries draw upon alternative sources for sovereign financing, the number of countries for which a more comprehensive approach to debt crisis workouts is needed may grow, especially in a challenging global environment. The Monterrey Consensus welcomed consideration of an international debt workout mechanism. Since then, international agreements have focused on market-based solutions, such as contractual clauses in bond contracts.
The Addis Agenda specifically:
- Affirms the importance of debt restructurings being timely, orderly, effective, fair and negotiated in good faith.
- Welcomes reforms to pari passu and collective action clauses proposed by International Capital Market Association
- Encourages countries, particularly those issuing bonds under foreign law, to take further actions to include those clauses in all their bond issuance
- Recognizes the “Paris Forum” initiative by Paris Club
- Takes note of ongoing discussion of debt issues at the IMF and the United Nations
The international community has struggled to devise better processes and standards for resolving sovereign insolvencies (see also Debt crisis resolution). In the absence of a more systemic and multilateral solution, the current focus of policy making to resolve sovereign insolvencies has been on contractual solutions, such as the inclusion of enhanced collective action clauses (CACs) in bond contracts. The new standard is a “single-limb” aggregated voting mechanism, which allows a qualified majority of bondholders across all bond series to bind an uncooperative minority in any of the bond series to the terms of a proposed restructuring. According to the most recent IMF progress report on sovereign debt, published in March 2019, almost 90 per cent of all bonds issued under New York and English law since these clauses were first introduced now include them.
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In October 2014, the IMF endorsed key features of enhanced collective action and pari passu clauses in international sovereign bond contracts. These features are meant to reduce issuers’ vulnerability to holdout creditors in case of a debt restructuring. Between October 2014 and end-September 2017, 245 of the 338 international bond issuances (approximately 87 per cent of the nominal principal value of new internationally issued sovereign debt) included such enhanced collective action and modified pari passu clauses. However, with only about 27 per cent ($294 billion out of $1.1 trillion) of the outstanding stock of international sovereign bonds having the enhanced clauses, a significant stock without these provisions remains and will decline only gradually (see here). Moreover, the enhanced clauses only apply to bonds; a significant portion of developing countries also have borrowed from banks, to which these clauses do not apply.
While an aim of the contractual reforms was to reduce the ability of non-cooperating bondholders to undermine voluntary restructurings, investors in distressed debt have a role to play in resolving unsustainable borrowing situations. Distressed debt investment funds can provide liquidity in secondary markets for sovereign bonds. However, a subset of these funds that buys the distressed debt at a large discount with the intent to recover the full face value through litigation has made restructurings extremely difficult. Thus, recent legislative efforts have been made to curtail this type of investing, including the Law on Deterring the Activities of Vulture Funds, adopted in Belgium in 2015. A spread of such legislation to other jurisdictions could help to further discourage disruptive behaviour and should aim to strike the right balance between further discouraging disruptive behaviour and preserving secondary-market liquidity.
In the absence of “hard” law oversight of workouts from sovereign insolvency, a number of forums have sought to specify principles and guidelines that, while not mandatory, could, through voluntary adoption, become accepted standards that courts might choose to enforce. Indeed, the Addis Agenda committed Member States to working towards a global consensus on guidelines for debtor and creditor responsibilities in borrowing by and lending to sovereigns, building on existing initiatives.